New York Times - 10 Jan 01

Texas Learns in California How Not to Deregulate

By JIM YARDLEY
Published: Wednesday, January 10, 2001

Nearly three years ago, Texas lawmakers and
regulators preparing for electricity deregulation visited California to
study its first-in-the-nation experiment. For two Texas legislators,
Steven D. Wolens, a Democrat, and David Sibley, a Republican, it was a
memorable trip.

"I remember saying to Sibley, 'If this is what
deregulation is, we don't want it,' " said Mr. Wolens, a state
representative from Dallas.

Neither, it appears, does California anymore. On
Monday night, Gov. Gray Davis deemed the state's experiment a "colossal
and dangerous failure" and proposed government intervention to meet the
state's energy demands, stabilize rising prices and help ensure that the
two largest private utilities avoid bankruptcy. Then today, Mr. Davis
was in Washington for a White House meeting with top federal officials
to discuss California's energy crisis.

Yet even as deregulation is collapsing in the largest
state, the second-most-populous state, Texas, is moving forward with its
own plan, one intended, in part, to avoid California's problems. In
March, Texas will begin a marketing campaign, followed in June by a
pilot program involving 5 percent of the state's customers, then
culminating with full deregulation in January 2002.

"The more I see out there," Mr. Sibley, a state
senator from Waco, said of California, "the more I like what we
did."

The Texas law, signed in 1999 by Gov. George W. Bush,
remains untested, but the crisis in California has not yet prompted any
official second-guessing. The Texas Legislature convened today, and Mr.
Sibley predicted that the law would remain intact. The prevailing view
among many officials, and one shared by some energy analysts, is that
California simply had a bad plan.

"California's deregulation program may have been
sound in concept but was clearly flawed in execution and in many ways a
victim of circumstances," said Steven Taub, associate director with
Cambridge Energy Research Associates, a consulting firm based in
Massachusetts. "We should not fear deregulation."

The fundamental difference between Texas and
California boils down to simple supply. Karl Stahlkopf, a vice president
at the Electric Power Research Institute, a nonprofit research
organization funded by the utility industry and based in California,
said California had a surplus of electricity until recent years. But as
demand gradually outstripped supply, California did not respond by
building new power plants. Partly because of tough environmental
regulations, Mr. Stahlkopf said, California has not built a major plant
in more than a decade. A new plant is scheduled to begin operating in
June.

Texas, by contrast, has a power surplus. Since 1995,
the state has built 22 new plants, with 15 more scheduled to come
on-line by 2002. Texas is also unique among the contiguous 48 states in
having its own power grid and thus falls outside federal regulation.

As a result, Texas is self-sufficient, while
California must buy electricity from neighboring states. Texas officials
also say it takes far less time to build a plant here than in
California.

"It's easier to do business in Texas than in
California," Mr. Stahlkopf said. "You've got a much simpler regulatory
climate and much fewer hoops to jump through."

Environmentalists are far less powerful in Texas than
in California, but they did win concessions when the deregulation bill
was being debated in 1999. The new generation of plants, fueled by
natural gas, are cleaner. But the law also includes a mandate that
existing plants reduce emissions as much as 50 percent.

When the delegation of Texas officials made its
fact-finding trip to California in early 1998, the primary focus was on
the structure of the state's deregulation plan. Texas had already
deregulated its wholesale market in 1995 but officials were moving
slowly in the retail market. Besides California, they visited New
Hampshire and Pennsylvania, and Britain, to study deregulation.

In California, Mr. Wolens recalled meeting with Steve
Peace, a suburban San Diego state senator who played a large role in
crafting the deregulation bill. At the time, California officials
remained enthusiastic about their program but were apparently not blind
to the possibility that unforeseen problems could arise.

"He advised us that it was an experiment," Mr.
Wolens said. "He had the prescience to tell us to learn from their
mistakes." Patrick Wood, chairman of the Texas Public Utility
Commission, said several aspects of the California plan raised concerns,
notably the requirement that utilities must buy power on the wholesale
market through a centrally controlled bidding process. The plan also
mandated that utilities buy power only through short-term contracts,
leaving them vulnerable to upturns in wholesale prices.

"Everybody on the Texas side of the table was
mystified by that," Mr. Wood recalled. "It didn't sound like a
deregulated marketplace to us."

In response, Texas has set up a very different
system. There is no central bidding pool and companies can enter into
long and medium-term contracts to hedge against price inflation. The law
also established a "price to beat" system, modeled partly after
Pennsylvania's, that will automatically reduce by 6 percent the prices
that existing utilities can charge. This rate is essentially locked in
for five years, and is intended to invite competition from new
providers. Texas officials consider this crucial since a problem in
California was that most customers did not switch providers and create a
competitive market.

Texas officials and energy analysts are confident
their plan will work, particularly since supply is not a problem. Mr.
Wood said that the transition would not be painless but that the
regulated system already had its own problems.

"Look, there will be things that don't work," Mr.
Wood said. "But they really don't work under regulation. What we've got
today isn't great."

Jim Marston, head of Environmental Defense in Austin,
helped negotiate the Texas plan and the provision mandating the
pollution reduction. He believes the law will generally result in lower
prices but that fluctuations brought on by harsh weather or spikes in
natural gas prices may be greater. Because of that, he cautions about
any premature celebration.

"I'm sure the people in California really thought
they had thought of everything," he said. "I know they did. What we
haven't necessarily done is think about the problems we don't know about
yet."